Cold Quarter for The Pantry

Poor weather, frugal consumers contribute to lower 2Q sales

SANFORD, N.C. -- Blaming the downturn on abysmal March weather along with static consumer disposal income, The Pantry Inc. said Wednesday that retail merchandise and fuel sales during second-quarter 2008 each dropped 3.4% from like-period 2007. In a conference call with analysts, chairman and CEO Peter J. Sodini said that "while we were pleased with our merchandise margin and continued progress in controlling expenses, we are disappointed with our gasoline gross margin and the initial losses in our hedging positions."

Sodoni added that "given a return to historical gasoline and oil market [image-nocss] fundamentals, we believe these positions should contribute positively to our gas margin in the second half of the year. As a result of the weaker than expected results, we are trimming our net capital spending target for fiscal 2008 by $20 million to $110 million."

Overall, the organization expects to report a loss for the quarter—one that has not historically generated positive results for the chain—of between 24 and 30 cents per share.

The Pantry said that retail gross margins on fuel for the quarter registered about 9 cents per gallon, below the 11.5 cent margin achieved in similar-period '07.

On a positive note, the company's gross margin performance on merchandise items—at 37%—came in slightly above full-year expectations. Store operating and general/administrative expenses were consistent with the low end of the previous full-year guidance range of $615 million to $630 million, the company said.

Sodini blamed poor weather in late winter and early spring for restraining foot traffic in many stores, adding that "warm weather and c-store sales go together like a hand in glove." He said more moderate weather combined with several retail promotions due for launch during the late spring and summer have the chain's expectations high to offset the second-quarter doldrums.

He said that in addition to poor weather, consumers felt the pinch from the credit crunch as well as other economic factors hampering disposable income.

During the presentation, Sodini said fuel margins benefited from the company's increased ethanol blending, where approximately one-third of its stores now participate. The benefits from blending was counteracted by prevailing high oil costs, increasing credit card fees and mark-to-market losses on hedging positions of 1.6 cents per gallon (or 23 cents per share).

On the latter, The Pantry—in an effort to somewhat offset expected impacts on retail gasoline margins from seasonal expansion of refining margin—has established hedging positions on approximately 3% of annual gasoline volume. Seasonal expansion of refining margin typically occurs from April through August.

Since hedging was established, refining margin futures have decreased due to an unusual change in the relative pricing of crude oil futures and gasoline futures, said Sodini, leading to losses on the initial positions the company has taken. The Pantry has no plans to expand the program in fiscal 2008, he said, and it has taken steps to reduce its exposure to losses in the event of further decreases in refining margin, while retaining the opportunity to gain from its current positions.

The company has revised expectations for its retail gasoline margin for the full fiscal year to be between 10 and 12 cents per gallon, below its previous expectation of 11 to 13 cents per gallon.

Sodini said that the company is also expecting both merchandise and gasoline comparable sales to be somewhat weaker with low single-digit declines for the full year. Yet the projections remain within the previous expected ranges of $1.6 to $1.7 billion in merchandise sales and 2.1 to 2.2 billion in fuel sales. The company reported revenues for fiscal 2007 of approximately $6.9 billion.

In examining possible strategies to grow sales and profits for the rest of this year and beyond, Sodini told analysts that the company remains "very cautious about the whole subject of buying stores." The company recently added 19 retail facilities to the fold, including the acquisition of 16 Sayle Gas Mart convenience stores owned and operated by Charleston, Miss.-based Sayle Oil. This acquisition made sense, he said, because the stores involved were prime rural locations along interstate highways to better generate foot traffic.

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